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The impact of the Sarbanes-Oxley Act: How does it change the rules of the game for corporate internal control?
After a series of major accounting and auditing scandals in the United States, the Sarbanes-Oxley Act was officially introduced in 2002 to strengthen corporate governance and protect the interests of investors. This act not only increased corporate accountability for its internal controls, but also laid the foundation for a widely used corporate internal control framework.
Definition of Entity Level Control
Entity-level controls are an important tool to ensure that management directives are effectively executed. The design and implementation of these controls contribute to risk management throughout the company. The nature and precision of these controls will vary depending on the uniqueness of your business, but their core function is to drive overall risk control.
Core Requirements of Sarbanes-Oxley Act
Section 404 of the Act requires company management to evaluate and report on the effectiveness of the company's internal controls and requires an independent auditor to confirm the report.
This requirement not only prompts companies to pay attention to the construction of internal control, but also strengthens the requirements for the accuracy of financial reports to a certain extent. With the establishment of the Public Company Accounting Oversight Board (PCAOB), the audit industry has also ushered in changes, and the formulation and implementation of audit standards have become more rigorous.
PCAOB Auditing Standard 2201
In 2007, the PCAOB adopted Auditing Standard 2201, which requires in-depth testing of entity-level controls in audits of financial reporting. According to the standards, auditors are required to evaluate the effectiveness of entity-level controls and adjust the scope and depth of subsequent audits based on the evaluation results.
Common forms of entity-level control
Effective entity-level controls can reduce corporate risks to a certain extent, including but not limited to management's code of conduct, remuneration and employment policies, and internal reporting mechanisms. These controls not only increase transparency, but also enhance the company's overall risk management capabilities.
How to Assess Entity-Level Controls
The assessment of entity-level controls should be performed by an independent auditor in accordance with SAS 109, a standard issued by the AICPA. The standard emphasizes that auditors should have a sufficient understanding of the five components of internal control to assess the risks of material misstatement of the financial statements.
The five components include: control environment, risk assessment, information and communication, control activities and ongoing monitoring.
These components provide a comprehensive framework to help companies and auditors understand and improve the effectiveness of their internal controls.
How Enterprises Leverage Entity-Level Controls
Management should evaluate entity-level controls through four basic steps: identify risks, use a top-down approach to identify and categorize risks, review the effectiveness of current entity-level controls and make necessary adjustments, and finally effectively utilize These controls reduce risk.
Overall Importance of Entity-Level Controls
Strong entity-level controls can affect the operation of the entire organization, while inadequate entity-level controls may give rise to the risk of material financial misstatement. In such cases, the company may suffer a negative audit opinion, resulting in a decline in share price and a loss of capital.
ConclusionBy strengthening entity-level controls, enterprises not only improve the efficiency of internal monitoring, but also enhance their ability to identify risks, and lay a good foundation for future development.
Overall, the Sarbanes-Oxley Act and the resulting strengthening of entity-level controls have completely changed the game for internal corporate controls. With the implementation of the law, the transparency and risk management capabilities of enterprises have been significantly improved. However, in an ever-changing market environment, can enterprises continue to respond to new challenges and maintain the effectiveness of internal controls?
